Who said tax is boring?

Archive for the month “April, 2012”

Alex Salmond, the bank manager-faced First Minister of Scotland, has been making headlines lately due to a referendum planned for 2014 to decide on Scottish independence. What a pity.

On a visit to Westminster Abbey a few years ago, I collared a verger and we went on a hunt for the grave of Andrew Bonar Law, the United Kingdom’s shortest serving prime minister of the twentieth century. The verger didn’t think it was there. I did. After patiently weaving around the columns of the Nave – where Pippa Middleton would later catch the attention of the world – I was proven right.

Worse than me? Impossible!

Bonar Law was the Canadian-born son of an Ulsterman and a Scot. He grew up in Scotland, considered himself a Scot and, when he became prime minister of the United Kingdom in 1922 he was the THIRD Scottish prime minister in just twenty years. And it didn’t stop there. Less than a year after his retirement No. 4 walked into No. 10; if Bonar Law had the sad distinction of being the shortest serving prime minister of the last century, James Ramsay MacDonald had the sadder distinction of being the worst. Not to labour a point, the tradition has carried on ever since (the last two prime ministers – Gordon Brown and Tony Blair – were born in Scotland).

So, if Scotland is so totally entwined in the tapestry of British life, what is Alex “no you can’t have a mortgage, Mrs Finlay” Salmond piping on about?

The answer, of course, is pounds, shillings and pence, which is what bank manager-faced people understand – or think they do.

The Flying Scotsman (or should that be the Flying Salmond) appears to balance his economic reasoning for independence on two planks: Scotland will get the revenue from North Sea oil and gas that the Sassenachs south of the border are currently pocketing and Scotland will be able to lower its corporate tax rate to the Irish rate of 12.5%.

It looks like Salmond is fishing in the wrong sea.

North Sea supplies are starting to flicker. Some of the wells have been totally depleted and other sources are becoming harder to get at. According to some estimates, the net revenue from the North Sea is likely to be similar to the current subsidies being paid from Westminster – and that will eventually disappear.

He can kiss good-bye to all that on a 12.5% tax rate

As regards clubbing the tax rate Robert the Bruce style – as a full partner in a highly developed first world nation as opposed to a relatively poor island that had already been independent from Britain for 60 years, how do you convince your citizens to live with significantly lower social benefits ? And if you think the Laffer Curve (which seeks the best rate of tax to maximise government revenue) is going to help – forget it – it looks like Britain’s corporate tax rate is on the right (that should be ‘left’) side of the optimum rate.

Leaving other considerations aside, the race to the bottom on tax rates presupposes that investors will choose you. The Irish ingeniously identified that they had something rare to offer the Americans – the ability to offshore their operations thereby pushing off draconian tax bills back home while dealing with a workforce of native English speakers. That is presumably Mr Salmond’s rationale for Scotland to join in the celebrations.

Not so fast.

You should see me with a microchip

The American authorities are now busy looking for ways to repatriate foreign operations as well as profits to the United States. The Obama Administration has spoken clearly about this in the lead-up to this year’s election. Assuming that they can get their legislative system to work logically long enough to pass a law that does not look pieced together by a love-sick monkey – Ireland will be sunk. Is this the time for Scotland to be dipping its toe in the same water? Then, even if the American legislation is deadlocked, there is the small question of language. Frankly, the Americans who are not only monolingual but also have difficulty with anything stronger than a Deep South accent will have no less hard a time understanding the Scots than the Poles (OK, before I get a rock through my window with “a Glasgow Kiss, especially for you” embossed on it , I would like to point out that my mother was Scottish and, although her voice was silenced forever nearly half a century ago, a refined Lowlands accent still calms me like no other. BUT I AM NOT AN AMERICAN.) Then there is the matter of negotiating Scotland’s entry to the EU – they hate the Irish tax rate already – it can be safely assumed that the Europeans will extract a guarantee from Scotland before offering membership.

But Scotland need not fret. Apart from tourism, it has something glorious to offer which is not particularly sensitive to tax rate and means they do not need to resort to Irish low ball tactics.

Taste great with a glass of cognac

Just as Germany has a reputation for high quality manufacturing which no amount of Japanese, Chinese, Burmese and Everythingese competition can seriously challenge, and just as Britain has a reputation for services (especially the financial variety) which – the way it looks – Niko Sarkozy is not going to be around to snarl – Scotland has a reputation in one, very significant, field. Thanks to its unique position in the Single Malt Whisky market, the word “Scotland” is synonymous with “Quality”. It needs to build on that in other luxury food areas – as long as they get it right the idle rich (and not so rich) around the world will lap it up.

So, when the future is looking rosy, why go and mess it all up? What will independence give them other than the trials and tribulations of a small country unprotected from shocks by a bigger, more diversified, whole?

He has at least one thing in common with Churchill - his figure

The last time a Scottish ruler misbehaved Queen Elizabeth (the original as opposed to the current sequel) had her imprisoned and beheaded at Fotheringhay Castle. But thereby hangs a cautionary tale – just 16 years later Mary Queen of Scots’ son King James VI rode into London as King James I of England and Ireland thereby bringing the 3 kingdoms under a single – Scottish – crown. But then, the British do keep on electing Scottish (and Welsh) prime ministers. Let’s hope Salmond doesn’t manage to swim all the way to Downing Street – he looks far too wet for the English.

Ever since a BBC newsreader put me right about the difference in pronunciation between Gorilla, a type of ape, and Guerrilla, a type of freedom fighter, I have been a bit of a stickler for getting the sounds of words on target. While a gorilla may be anthropomorphically protrayed as a guerrilla, articulation of the latter involves a painfully rolled ‘r’ (two to be precise) which sounds like a cross between a flamenco guitar roll and an onomatopoeic machine-gun burst.

"What do you mean your agent said you were going to be in the entire movie?"

I was therefore once again indebted to the Beeb when they recently started serious coverage of a story, like the best of John Le Carre’s spy novels, that has been gradually unfolding for months in the quality press. As the world now knows, Bo Xilai has been removed from his senior position in the Chinese Communist Party amidst allegations that his lawyer wife, Gu Kailai, was involved in the murder of a shady British businessman. The source appears to have been his local police chief, Wang Lijun, who took refuge for two days at the US Consulate in Chengdu and, according to reports, spilt a few too many beans during his stay. The unfortunate Brit, Neil Heywood, who has the only name I can pronounce without audio assistance, was even out of spy novel central casting (although Le Carre would have insisted on calling him Nick ) and sticks in my mind as one of those hapless extras in early Bond films always sweating in tropical suits and dead in the first five minutes.

His dancing was a lot better than his accent

According to Auntie – Britons’ affectionate term for the BBC – Bo Xilai and Beaujolais (as Le Bon Vin Rouge would have been pronounced by Dick Van Dyke in Mary Poppins – “lais” morphing to “lie”) are homophones. Hence, one might expect a Cockney to walk into a pub and announce: ” A pint o’ Beaujolais and a packet of crisps, darlin’ ” and, if one was not listening carefully, one might think he was talking about the Chinese crisis.

It appears that the less-than-free Chinese press is now concentrating on the antics of the prodigal son of Bo Xilai and Gu Kailai – Bo Guagua (not to be confused with Lady Gaga) – who appears to have bombed busily around Chongqing, his father’s fiefdom, in a Ferrari when not busy bombing exams at Oxford.

This banal coverage is giving the Chinese leadership some respite from discussion of the real issues that could affect the future of that great country including the taxation of outbound investments, which is what most interests readers of this blog.

The final chapter?

Until his fall, Bo Xilai was widely tipped to become a member of the nine member Standing Committee of the Politburo, which effectively runs China, in the much anticipated generational handover of power later this year. Although from one of the most prominent communist families (his father was vice-premier and the whole family suffered in the Cultural Revolution) he was not universally liked and the situation that is unfolding smacks of an old-style purge. While China continued its long march to a more Free Market economy – as was clear from the 12th Five Year Plan last year and the anticipated appointment of Xi Jinping as next president – Bo Xilai was from the left wing of the party and advocated partial return to Maoist policies. Perhaps most significantly, he was a Statist – advocating central control of the economy particularly through the promotion of state-owned industries as opposed to a free market.

China today is still predominantly statist but various pronouncements including a co-authored report with the World Bank (which is also now headed by American Jim Yong Kim whose name I can, at least, pronounce) show that the country is ripe for further reform.

China’s growth in recent years has been built on foreign investment, exports, exchange controls and cheap finance from the masses. Put into other words, the Chinese have been encouraged to save rather than consume investing their savings in the limited ways available to them, hence freeing up cheap capital to be pumped into inefficient state industries. In the meantime control of the Yuan involves resorting to the printing press in transactions with foreigners to maintain an artificially low exchange rate and continue to encourage exports.

It is now recognized that the Yuan policy will eventually lead to inflation and, if high growth is to continue to be achieved, it is necessary to slowly free up the markets. This involves encouraging consumer spending, allowing interest rates to rise, reducing the prominence of state owned industries which guzzle available credit thus crowding out private enterprise, continuing to encourage foreign investment and, very importantly, putting more emphasis on encouraging outbound investment.

With the charismatic Bo Xilai safely out of the way the road ahead seems much clearer. In the field of outbound investments, from conversations I have had with Chinese experts over the last few weeks (don’t ask me how to pronounce their names) things look ripe for a further liberalization of the outbound tax rules – further reinforced by the exponential increase in tax revenue from inbound investors in recent years.

Currently, the cornerstones of Chinese outbound tax legislation are the direct and indirect foreign tax credit rules and CFC rules. Both have serious shortcomings. The FTC rules allow credit for foreign tax paid but, in the case of indirect credit, this is restricted to three foreign tiers – precluding complex multi-national structures which the Chinese are likely to invest in going forward, as well as a same country limitation – restricting credits to tax paid on income from the same country; 5 year carry forward of unutilized credits is permitted. As regards CFC, the rules apply to all profits in a country with a tax rate of less than 12.5% unless it can be shown that the profits are left in the company for valid business reasons.

In a country that wants to substantially increase its investment abroad these rules are not good enough. At minimum, China needs to permit tiers all the way down (above a certain indirect holding percentage) and remove the same country rule. Ideally, it should consider a territorial basis of taxation for this income. As regards CFC, the rule is too vague as regards what constitutes valid business reasons and the cut-off rate is too high – 12.5% is no longer a tax haven rate of tax.

The human face of the free market?

In modern China, Bo Guagua and his parents might be listening to Lady Gaga’s hit song Paparazzi and longing for the good old days when senior Party officials who fell from grace simply disappeared from the podium at the next National Day parade.

As a sport that dictates: “when you are out you are in” , the vast majority of the world’s population may be forgiven for not understanding cricket. Not so the man on the New Delhi Omnibus for whom the game is a way-of-life. While recent cricket scandals have tended to emanate from India’s nemesis, Pakistan, a number of madcap actions by India’s lacklustre government since the beginning of this year have suggested that the geriatric ministers have forgotten the basic tenet of the game – fair play. Put plainly, it simply isn’t cricket.

With clients like him no wonder the textile industry needs protecting

It all started with the welcome announcement that the inefficient retail trade was going to be opened up to foreign investors – sparking massive interest especially amongst the major international supermarket chains; vested interests stepped in and the government backtracked. Next came restrictions on the export of cotton to protect the local textile industry which, thanks to an international outcry and – probably more importantly – protests by Indian cotton farmers, were scrapped.

But perhaps the most absurdly aggravating of all was the Budget announcement of March 16. Regular readers of this blog will recall that, earlier this year, the Supreme Court struck down lower court decisions regarding a claim by the tax authorities that they were entitled to $2.5 billion from Vodafone for the capital gain purportedly accruing to Hutchinson on the indirect purchase of Indian operations from one of its offshore companies. Coming 3 days before the Supreme Court rejected the government’s request for a review of the decision and all 121 points of contention, it was not surprising (if galling, and arguably silly) for the Finance Minister to announce a proposal that the law would be amended to ensure that such deals would not escape liability in the future. What smacked of the batsman sending the ball crashing through the Club House window straight into the smiling face of the barman, was that the proposal was to apply the amendment retroactively to April 1961 (let’s write that slowly for emphasis – April… Nineteen…Sixty…One). That was the month that Yuri Gargarin became the first man to go into space, and it certainly appears that the Indian Government is, like the fictional Robinson family, Lost in Space.

All these issues, and especially the last, leave foreign investors up the Khyber Pass without a paddle. The world’s biggest democracy seems to be losing its way. While experiencing record growth rates in the middle of the last decade (estimates of around 10%) current GDP growth is at around 6%, which is impressive when compared to western economies, but is not enough to pull the Indian masses out of poverty. While Indian companies are successfully investing overseas (look at Tata which is spreading everywhere) the country is in desperate need of foreign private investment. Current actions of the Indian government are not the way to go about encouraging that.

Australian batsman showing the professional way to react to Bodyline

One of the first big scandals in international cricket may provide a pointer to India’s rulers. Back in 1932 England’s team traveled to Australia to try and regain the Ashes (the prize for the hotly fought biennial tournament between the two countries). England could not see any way round Australia’s invincible batsman, Don Bradman, until the captain Douglas Jardine noticed in film footage that, when balls were accidentally thrown in a manner that threatened to collide with his upper body, Bradman recoiled. Thus was born the concept of “Bodyline”. Bowlers aimed to bounce the ball short, well before it reached the batsman so that he either ducked or hit a defensive shot that could be easily caught – thus dismissing him. Bodyline was totally within the rules of cricket but it was, simply, not cricket. The English team was roundly condemned and the rules of cricket were gradually changed.

India is today playing according to the rules – its democracy functions and it is legally within its rights to throw anything it likes at foreign investors. But it runs the risk that those same foreign investors will walk away. Not literally- India is too big a potential market for them to ignore – but in the extent and efficiency of their investments. If India is to regain its high growth rates it has to play fair with foreigners.

Adrian Mole, aged 15 years and 1 day, wrote in his diary on April 3, 1982: “10am. Woke my father up to tell him Argentina has invaded the Falklands. He shot out of bed because he thought the Falklands lay off the coast of Scotland. When I pointed out that they were eight thousand miles away he got back into bed and pulled the covers over his head.”

Argentina fires another salvo in Falklands conflict

30 years on and Argentina is making noises again – this time through the good offices of President Cristina Fernandez de Kirchner who has recently been rattling her jewelry at Britain. One notch up on Eva Peron – the legendary Evita was wife of a president, Cristina was wife of a president and IS a president – her rantings seem to be going nowhere. If Britain no longer has the capability to send a task force to the South Atlantic ( no Harrier jump jets , no Ark Royal aircraft carrier, no Royal Yacht Britannia), Argentina doesn’t have the money to send a telegram to Downing Street declaring war. Though, of course, there is no room for complacency now the stakes have been raised with the anticipation of substantial oil reserves in the region.

Meanwhile, the good life in the Falklands goes on. There are 3000+ residents – the Falkland Islands is an archipelago of around 700 islands, which sounds as impressive as Luxembourg’s 4 cities – but 75% of the population live in the undisputed capital, Stanley (undisputed because it is the only city) and the rest are thrown around a few other windswept islands.

The Falkland Islands has a government (the British retain responsibility for defence and foreign policy). Currently relying on fishing, tourism and the wool trade for its economic viability (it is self supporting and relatively wealthy), there is even a developed taxation system with a full-scale Double Taxation Treaty with the UK. Around 600 people (some 30% of the workforce) work in the public sector.

Wait a minute! Let’s rewind. Are they potty? They have a population the size of a large school and institutions to compete with the European Union.

It takes 4 government workers to operate the doors

I took a look at the Falkland Islands Government Website which makes fascinating reading if you are the sort of person who stands on railway bridges marking down the registration numbers of passing trains, and where I discovered most importantly that “Falkland Islands” is singular. The most striking thing about this site is that, despite 600 (six hundred!) public sector workers contemplating their navels, they can’t even be bothered to keep it up to date. The last time someone appears to have rolled into the office after a busy day of penguin watching was in 2010 when the higher personal and corporate tax rates stood at 26%. There was talk of a Medical Levy being charged on income with effect from 2011 but I suppose we will have to wait until 2013 to find out if it ever went into force. The Taxation Office (which shares premises, but not a telephone number with the Pensions Office) is in the capital Stanley (couldn’t be anywhere else, really) – and its address is Stanley, which is easy to remember.

But why do they need all this Nation State nonsense? Surely it would make more sense if, when they need revenue, the Chief Executive (sort of Prime Minister) would just stroll into the local pubs (there must be more than one, I suppose) and have a whip around for say, Mr Foggerty’s hip replacement, or a new road leading nowhere. And what do they spend all this money on (other than the 600 government stargazers)? In fact, what does a relatively wealthy remote society do with its money at all – how many IMAX cinemas does Stanley need?

"Argies, now after me! Simon says...."

When Britain dashed to save the Falklands in 1982 none of this was important. What was important was that Argentina was the World Cup holder and Margaret Thatcher knew that, after qualifying for the July 1982 finals for the first time since 1970, England didn’t have a prayer. The best thing she could do was nobble the Argies at the thing the British do best – War. Unlike today, those were jingoistic times. The tabloid Sun Newspaper ran a headline after the sinking of the Belgrano with the totally unnecessary loss of 350 Argentinian lives: “Gotcha” , but was not responsible for “Kill an Argie and win a Metro” – which, as it referred to the flagship of the dying British motor industry, was not much of an incentive for the boys in green.

Of course, not everybody supported the Falklands War. Ronald Reagan, Maggie’s platonic lover from across the pond, refused to play ball – probably saving himself for the more-sure-thing of invading Grenada , with its two men and a dog, the following year.

The Argies always did play fair

In the event, Britain was – of course – victorious and the Argies surrendered just in the nick of time at 9pm on June 14, the day after the start of the World Cup in Spain. Argentina and England both got blown away in the second qualifying round and Italy – no stranger to losing wars – went on to take the title.

If I were a Falklander, I would watch out for 2014. The World Cup is in Brazil.

Luxembourg has won the Eurovision Song Contest an incredible 5 times - only twice less than regional superpower Ireland

In recent months, both the Obama Administration and Republican Congressional leaders have suggested that tax deductions for charitable donations should, in certain circumstances, be curbed in the future – although, in keeping with all things Campaign 2012, the facts are a bit thin on the ground.

Frankly, I did not give this particular tax break much thought until a wake up call last Tuesday morning. Not literally – although I was in one of those ubiquitous hotel rooms that could be absolutely anywhere in the world if not for the single distinguishing feature of the shape of its electrical sockets. Having arrived late the previous night in Luxembourg – western Europe’s broom cupboard that could probably be conquered by a posse of Belgian traffic wardens en route to a jolly in the French Alps – the only bright moment so far had been stumbling upon Mary Nightingale, the 21st century thinking man’s crumpet, anchoring ITV1’s News at Ten among a Babel of more than seventy channels.

Who invited him?

Rising early – as is my custom – and with nothing else to do because this was Luxembourg, I decided to take a look out of the window at the city (for all I know, the horizon beyond the end of the car park was already Germany). As I opened the curtain I was struck by the beauty of the sunrise and, indeed, stood rooted to the spot for some time. Then I got to thinking about the last time I had watched a sunrise and the result was rather depressing.

Here I was in a foreign country (well, not literally a country – but it was foreign), and my reality was that I had just rolled off an airplane (albeit propeller driven) into a taxi into a hotel lobby into a hotel bedroom into and out of a hotel bed; and what now awaited me was rolling into another taxi into an ubiquitous meeting room (the electrical sockets tend to be hidden so you are really lost) into yet another taxi into another aircraft seat. I had done the same thing ten days earlier – for Luxembourg read Netherlands. You get the picture.

Meanwhile, back home, the sun rises, the sun sets, it rains, there is a heatwave and I don’t even notice – driving early to the office, sitting with the sun-blinds down because I seldom get round to rolling them up. In short, standing there, staring out of the window, I realized I was living in a bubble and had lost touch with the world.

But it is not only me who has a problem. Western society may have lost touch with itself.

Keeping it personal

At the start of the financial crisis, in 2008, the soon-to-retire Archbishop of Canterbury Dr Rowan Williams wrote a remarkable article in the Spectator in which he pointed to the idolatrous qualities of the financial markets and bemoaned the loss of the face-to-face element of trust in a credit transaction. The financial world had become so complex with so many derivative elements between the lending and borrowing of funds that the markets were deemed to have a life of their own and individuals were isolated lacking control over their own social destiny. The corollary of this may be summarized in a quote of Michael Jordan “There is no “I” in team but there is in win” – the individual is isolated and the collective is lost.

Which brings me to tax deductions on charitable donations.

Income taxes finance the collective requirements of the nation as a whole and governments cannot possibly personalize the destination of taxes paid. Although no right minded person in the twenty first century would suggest that we should go back to a welfare system based entirely on the generosity of individuals and tithes – governments are much better at collecting the amounts needed for collective social action- there is most definitely a place in modern society for charitable institutions. Governments the world over have proved inept at running most things (other than their chauffer driven cars). In recent years evermore public services in the western world have been privatised or, while funded by the government, operated by private bodies. There is massive room for charitable institutions to play a part particularly in the area of social welfare and while they may be eligible for government funding, there is a twofold advantage in encouraging individual “investment” : the donors vote with their feet if they perceive a breach of trust; and the system encourages genuine empathy.

He preferred giving charity to paying taxes

Despite the rants of some American fundamentalists that taxes crowd out charity, the marginal propensity to donate is a function of many things and the argument is totally spurious. I believe that the tax deductibility of donations to “‘legitimate” causes – and all would agree that President Obama or a President Romney should curb abuses – has more to do with the effect on society than economics. It reminds people, albeit inversely, that there is a connection between taxes and the social collective – by showing that the government is prepared to pass up on its legitimate right to revenue in favour of private funding.

At the end of this week the two great faiths that underpin western civilization celebrate (not coincidentally) major festivals. Each, in its own way, provides the chance to reconnect with the community. In increasingly sceptical societies participation in these festivals is just as much an opportunity to affirm Belief in Mankind as Belief in God.